Welcome to our Friday mailbag edition!
Every week, we receive great questions from readers. And every Friday, I answer as many as I can.
This week, readers want to know more about the collusion between the government and big banks after I shared an excerpt from my book All the Presidents’ Bankers…
Fascinating! I’m not an economist (my doctorate is in organic chemistry) and I don’t feel comfortable understanding financial transactions. So I appreciate the opportunity to learn about the factors that contributed to the Great Depression.
After reading Nomi’s article, I still don’t understand how the NY banks contributed to the panic, even though the conflict of interest was made clear. Any chance Rogue can provide further clarification?
– Martin G.
Hi Martin, thanks for writing in. I’m impressed by your doctorate in organic chemistry!
That excerpt you read from All the Presidents’ Bankers covered the early 1930s, the height of the Great Depression. The full 541-page book spans more than 100 years of intricate American financial history.
There are several chapters that provide my original archival research on the 1920s and what bankers were doing that led to the Crash of 1929 and the subsequent Great Depression.
For any historians out there, I wholeheartedly recommend that book. I had the best personal experience writing it and being able to travel to presidential libraries throughout our country to conduct original research into documents from decades past.
There’s a great section in the book called Earlier Signs of Impending Problems. It discusses the period leading up to the Crash of 1929, and the beginning of Chapter 5 builds from there.
Another great section is called “Wiggin, Acquirer and Deceiver.” Al Wiggin was the Chairman of Chase (now JPMorgan Chase) at the time of the Crash.
To answer your question, for now, many financial transactions combined to cause the Crash of 1929. I’ll summarize the top three here:
1) Massive Stock Market Speculation
During the 1920s, Wall Street banks fueled speculation. That’s because they provided record amounts of easy credit to small investors and businesses.
Investors borrowed this cheaper money to purchase stocks. That activity fueled a speculative bubble, which drove share prices to unsustainable levels.
Some banks created “trusts.” These trusts bought collections of various stocks and then sold shares in them to investors.
National City Bank and Chase (now Citigroup and JPMorgan Chase) lent money to investors to buy into the pooled trusts they created.
Charles Mitchell, head of National City Bank at the time, encouraged his salesforce to aggressively sell these trusts to the public and press them to borrow money to do so.
The more investors bought shares in trusts with borrowed money, the more the prices of those trusts and the shares the trusts bought, rose. Then, newer investors borrowed to invest in them at those inflated prices.
It was a vicious circle.
Also, banks forced investors who traded on margin (borrowed money) to sell off their stocks to pay back their loans as shares were falling.
The more people tried to sell their stocks at the same time, the faster prices fell. That resulted in more panic selling.
2) Unethical Practices
New York banks engaged in unethical practices. These included price manipulation, insider trading, and tax evasion.
As I cover in All the Presidents’ Bankers, Congress launched a series of investigations called the Pecora Commission Hearings to investigate these.
Al Wiggins, who was Chair of Chase Bank (now JPMorgan Chase) at the time, used shell companies to hide his wealth leading into the Crash.
He created investment pools to buy Chase shares and encouraged friends and customers to borrow money to purchase them.
As markets faltered just before October 1929, he “shorted” shares in his own bank, meaning he set himself up to profit if the share price went down.
These sorts of insider trading activities helped stoke speculation and intensify panic selling.
3) High Debt
Credit problems were already brewing in the mid-1920s. Here’s what I wrote in All the Presidents’ Bankers:
In November 1923, the Federal Reserve began increasing its holdings in government securities (such as Treasury bonds) by a factor of six, from $73 million to $477 million, in what could be considered the first instance of “quantitative easing.”
These lower rates encouraged banks to lend and borrowers to borrow.
By the mid-1920s, the amount of deposits backing loans also fell. That meant any losses had less capital backing them. This exacerbated the shaky financial situation.
That’s why when the market faltered, loan delinquencies and defaults rose.
As a result of defaulting loans, thousands of mid-sized banks went bankrupt in the early 1930s. This situation prolonged the Great Depression.
There are various similarities to what we’re seeing now with commercial real estate loans and regional banks. (I’ve written about that here.)
And whereas I don’t think those problems will cause another major market crash or Great Depression, they can cause a regional bank crisis.
That’s why, to all my readers, I say that it’s important to protect your money from banks with high concentrations of problem loans.
If you have money in a regional bank, consider dividing it amongst multiple banks. That way, if one fails, the rest of your money will be protected.
Gold and Bitcoin are also excellent hedges against bank problems.
And that’s all for this week. Thanks to everyone who wrote in!
If I didn’t get to your question this week, look out for my response in a future Friday mailbag edition.
I do my best to respond to as many of your questions and comments as I can. You can write me at [email protected]. Just remember, I can’t give personal investment advice.
In the meantime, happy investing… and have a fantastic weekend!
Regards,
Nomi Prins
Editor, Inside Wall Street with Nomi Prins